Mortgages began recovering in August following one of the worst months on record. Market stability and successful five- and 10-year Treasury auctions improved the market's tone. In addition, mortgage banker selling was limited to about $1 billion per day on average. All of this contributed to a decline in volatility for the week. From Aug. 1 through Aug 6, spreads on 30-year Fannie Mae 5s and 5.5s tightened 23 to 25 basis points, and 6s moved in 29 basis points. Dwarf 4.5s firmed 22 basis points, and 5s were minus 16 basis points. Last week's tightening pretty much wiped out the previous week's widening.

While there was wide support from banks and money managers, JPMorgan Securities says that a good portion of mortgages' strength last week came from fast money accounts. As a result, they believe there is risk to the sector as these players will quickly convert gains into profits. JPMorgan also says liquidity within the mortgage sector remains poor.

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